Australia | Oct 20 2014
-Potential for dividend increase
-Good play on nickel price
-Plenty of cash flow
By Eva Brocklehurst
Brokers are humming a consistent tune for nickel producer Western Areas ((WSA)) in the wake of the September quarter production numbers. Many suspect the company will upgrade its FY15 guidance by early next year.
Despite a correction in the nickel price in the quarter, the company is net cash by $45m and Deutsche Bank suspects dividends are likely to increase, assuming a 3% FY15 yield. The broker likes nickel as a commodity and expects prices to trend higher over the next two years, as supply is impacted by the Indonesian ban and stockpiles slowly deplete. A nickel market deficit of 130,000 tonnes in 2015 is forecast, as well as a 2-4 year delay before processing capacity in Indonesia ramps up. The stock is the clean way to play the nickel theme as production is stable, in Deutsche Bank's view. Positive grade reconciliation at Western Areas' Flying Fox and Spotted Quoll deposits is also expected in the short term.
Actual tonnage mined was below Macquarie's estimates but this was offset by a higher average grade. Nickel concentrate production also beat the broker's estimates, attributable to the higher tonnage milled. Factoring this in translates to 8% and 6% upgrades to the broker's FY15 and FY16 earnings estimates respectively. Western Areas is tendering for a replacement offtake partner for the 26,000t two-year deal with Jinchuan which expires at the end of this year. Securing a new offtake deal could come with improved terms, in Macquarie's view.
With spot nickel prices declining 12% in Australian dollar terms since the start of the December quarter, Morgan Stanley estimates current free cash flow yield is around 6-8%. Although it is early in the fiscal year, the broker believes FY15 guidance is conservative, as results from this quarter, annualised, are above production and below cost guidance.
UBS also maintains that, with first ore from Spotted Quoll North late this quarter, it is possible that higher grades could lead to a rise in production later in the fiscal year and a potential reduction in unit costs. Even without this benefit, UBS expects FY15 free cash flow of $120m. As this builds, and the company retains a further undrawn $125m facility, the broker believes there is ample capacity to repay its July 2015 convertible bond and also look at other opportunities. The softer nickel price in September is a short term head wind for UBS but Western Areas still provides solid leverage to the nickel price.
Citi has bullish nickel price expectations. Rising London Metal Exchange stocks have depressed the price recently, as higher Filipino exports to China and blast furnace use allows processing of lower grade ore, while the Qingdao stock financing scandal has promoted exports from China to LME warehouses. That said, the broker notes the Indonesian ban is here to stay and the Philippine monsoon season from November to April will curtail exports. Moreover, the stainless steel market is robust.
Credit Suisse was impressed with the September quarter report, including grades, mining rates, cash costs and mill throughput. The broker expects FY15 production guidance may be upgraded as current guidance of 24,500-25,500 tonnes of nickel in concentrate at cash costs of $2.7-2.9/lb looks easy to beat. The broker also highlights the fact the company's sampling at New Morning suggests mineralisation may be more extensive than initially thought. It adds up to a ratings upgrade for Credit Suisse, to Outperform from Neutral. On the other hand, JP Morgan prefers a Neutral rating, believing it is more appropriate as consensus earnings continue to factor in near-term nickel price appreciation, while weak end-user demand and ample supply may hold the price static in the near term. The broker considers the positives from the news flow are factored into the price.
On FNArena's database there are four Buy ratings and three Hold. Consensus target is $5.31, suggesting 16.5% upside to the last share price. Targets range from $4.60 (UBS) to $6.20 (Macquarie). Dividend yield on FY15 forecasts is 3.4% and rises to 5.9% on FY16 forecasts.
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